Client Alert
Contact:  
Arnold D. Litt, Esq., Chairperson
Real Estate Law Group
201-498-8520

 PAGANO vs 48 SOUTH FRANKLIN TURNPIKE,(A-9-08)

Dear Clients and Friends:

In a case decided March 9, 2009, the Supreme Court, in a split 5-2 decision, ruled that a broker is entitled to its commissions from a purchaser of an office building property where the underlying tenant leases make an express reference to such commissions on extension and renewal of said leases and where the purchaser assumes the obligations of the seller under the terms of the lease.

Factual Background.

The purchaser of a Ramsey office center during its due diligence reviewed all of the leases at the office property. The leases very clearly contained language that the owner of the building was to pay commissions (though the amount was not stated in the lease). The purchaser had a due diligence inspection review period during which, among other documents, the leases were provided to the purchaser for its review. As part of the closing documents, the purchaser executed an assumption agreement, whereby it assumed the obligations of the landlord under the leases. A separate agreement between the tenants and the owner of the office building specified that the owner was required to pay a 5% commission to Pagano Company of Glen Rock on extensions, renewals or options of the underlying leases. Whether or not the purchaser, during its due diligence period, reviewed the separate commission agreements is not clear, but the Court found that the purchaser had a fair opportunity to request access to the agreements before agreeing to assume the lease obligations of the owner.

The leading case on the subject, VRG Corp. v. GKN Realty Corp., 135 N.J. 539 (1994) dealing with a shopping center owner who was obligated to pay commissions to a broker who procured tenants at the shopping center, from the rents paid by the tenants, but which declared bankruptcy, held that purchasers of such properties in order to be deemed liable for the seller's commission obligation to the broker, had to affirmatively assume that obligation. The issue in Pagano was what constitutes the affirmation. In VRG Corp. there was no lease obligation assumption, merely an assignment of Leases, with no affirmative acceptance by the purchaser to assume the obligations of the owner to pay commissions under the leases. In Pagano there was an assumption of all the obligations of the landlord under the leases, although it appears from the factual recitation, there was no express reference to the brokerage commission obligations under the leases, just a general assumption of the owner's obligations thereunder. However, that was enough for the majority to rule in favor of the brokers.

Two justices dissented, arguing that the lease agreements only related to an obligation between the tenants and the owner, not an obligation by the owner to Pagano. The dissent defined the requirement as "a clear and unequivocal affirmative assumption" requiring what they called a "strict approach when examining documents said to contain a purchaser's affirmative agreement to assume an otherwise personal contractual responsibility to the seller". Thus, in the dissent's analysis, a general assumption of obligations under a lease is not enough to impose on a purchaser an obligation to pay brokerage commissions.

What is interesting about this case is that Bergen County Superior Court Judge Robert Polifroni ruled in favor of the broker, while an appellate court reversed on grounds similar to the dissent. Clearly, this area of the law is somewhat vague and ambiguous and requires a multi-pronged effort on the party of the broker to ensure that its commissions are paid by seller or purchaser, as the case may be. From a drafting perspective, the following should be noted:

Drafting the Lease to Protect the Broker's Interest.

• From a broker's perspective, if it procures a tenant it should carefully craft language in the lease, to the extent that the parties to the lease will permit same, to clearly provide the details of the commission agreement between the owner and the broker, including the amount of the commission or the percentage. In short, the formula for determining the brokerage obligation should be clearly set forth, so as to avoid any potential defenses by a purchaser that it was not aware of the "third party" agreement between the owner and the broker.

• Secondly, it should be clear in this paragraph that the obligations to pay commissions will be assumed by any successor-in-interest, assignee, transferee, or purchaser of the property, in the event the owner sells the property and does not pay the commission at the closing. Thus, in one cogent paragraph in the lease the broker is protected from the types of arguments and defenses raised by the purchaser in VRG Corp. or Pagano.

• Thirdly, in the best of all worlds, assuming the broker is aware of the sale of the property, it should make reasonable efforts to have the purchaser acknowledge in a separate agreement the commission obligation and assume such obligation, in the event the seller does not pay same at closing.

• Finally, if the Broker is aware of the sale, it should require specific language in the Contract respecting the commission agreement and purchaser's obligation to pay the commission in the event seller does not pay them at closing. This obligation should survive closing.

In conclusion, carefully crafted documents will avoid the expense and delay of unnecessary litigation to enforce clear rights of the broker which were not clearly articulated in the documents under scrutiny by the Supreme Court in VRG Corp. or Pagano. Proposed lease language is set forth below:

Landlord, by separate agreement, the terms of which are incorporated herein by reference, agrees to pay Broker a commission equal to ____% of the rents on a lease renewal, lease option, or lease extension. This obligation shall be binding upon the transferees, successors-in-interest, assigns, or representatives of the Landlord.[1]

 Should you have any questions with regard to the above in general or as specifically applied to your particular situation, please feel free to contact Arnold D. Litt, Esq. at 201-498-8520 (direct line), or via e-mail at Alitt@hertenburstein.com  or Susan M. Marra, Esq. at 201-498-8521 (direct line) or via e-mail at Smarra@hertenburstein.com.

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[1] This drafting suggestion is intended only as a guide and does not constitute legal advice.  Only by retaining an attorney can you assess your legal rights.